KARMIEL, Israel -- Fatina and Ahmad Zubeidat, young Arab citizens of Israel, met on the first day of class at the prestigious Bezalel arts and architecture academy in Jerusalem. Married last year, the couple rents an airy house here in the Galilee filled with stylish furniture and other modern grace notes.

But this is not where they wanted to live. They had hoped to be in Rakefet, a nearby town where 150 Jewish families live on state land close to the mall project Ahmad is building. After months of interviews and testing, the town's admission committee rejected the Arab couple on the grounds of "social incompatibility."

They petitioned Israel's high court to end such screening, claiming discrimination, a charge town officials are challenging.

"We can't just be good citizens," said Fatina, 27, who is expecting the couple's first child. "If they won't develop our villages, then we will choose where we want to live. The problem lies not with us, but with Jewish society that does not accept the other."

The Zubeidats are players in a wider ethnic clash unfolding in the Galilee, a northern region where Arabs, those who remained in Israel after its creation in 1948 and their descendants, outnumber Jews. Israel's policies have deepened the gulf between Arab and Jewish citizens in recent years, through concrete walls, laws that favor Jews, and political proposals that place the Arab minority outside national life.

This process of separation within Israel's original boundaries mirrors in many ways the broader one taking place between Israelis and Palestinians in the occupied territories.

With most of Israel's land controlled by a government agency, Israeli Arabs have long had more trouble acquiring property than Jews, who outnumber them five to one in a population of about 6.5 million people. In response, Arab lawmakers joined a Jewish parliamentary majority this year in endorsing the construction of a new Arab city in the Galilee, where demographic rivalry and ethnic separation are most pronounced. Arabs say it will be the first city built on their behalf since the state's founding.

But some Jewish political leaders have suggested that Israel's Arabs, who commonly refer to themselves as Palestinian citizens of Israel, should eventually live in a future Palestinian state, the subject of peace negotiations inaugurated last month in Annapolis, Md. Israel's foreign minister and lead negotiator, Tzipi Livni, said before the meeting that such a state would "be the national answer to the Palestinians" in the territories and those "who live in different refugee camps or in Israel."

Arabs and Jews study in separate schools in Israel -- the Arab system receives fewer resources -- and learn Israeli history in different ways. Israel's Jewish education minister, Yuli Tamir, ordered this year that Arab third-grade textbooks note that Arab citizens call Israel's 1948 War of Independence "the catastrophe." Many Jewish lawmakers reacted with scorn.

Except for a relatively small Druze population, Arabs are excluded also from military service mandatory for all but ultra-Orthodox Jews, an essential shared experience of Israeli life and a traditional training ground for future political leaders. Arab lawmakers have lined up now against a new proposal for Arabs to perform "national service" in lieu of time in the army, an institution they hold responsible for enforcing the Israeli occupation of the Palestinian territories.

"We have lost the Arab citizens of Israel," said Amir Sheleg, 63, who is head of security for the Jewish community of Nir Zevi on Israel's coastal plain. "They no longer want to be a part of the state, and I am sorry for it."

Sheleg, burly and bald, patrolled in a black pickup truck along a concrete wall that rises along the town's edge. The 15-foot-high barrier, funded by the government, divides the leafy streets of Nir Zevi from the adjacent Arab community of Lod. Rising crime, he said, prompted his town to begin building the wall four years ago.